AT&T’s LTE Adoption In Focus With Earnings

AT&T (NYSE:T) is expected to announce its Q1 2013 earnings on April 23. After the record smartphone sales posted in the December quarter, we expect to see a seasonal slowdown in this quarter’s sales. This may have a negative impact on net postpaid additions as compared to last quarter. However, it may not be such a bad thing to happen for AT&T whose wireless operating margins were battered by almost a half last quarter due to heavy smartphone subsidies. Meanwhile, increasing smartphone penetration should continue to help the company post a sequential increase in postpaid ARPU levels, bolstered by data ARPUs. With data usage expected to be positively impacted by LTE adoption, we will also be expecting an update on what kind of traction AT&T has been getting with its LTE smartphones, as compared to Verizon (NYSE:VZ), which is further ahead in its LTE deployment plans.

After the frenetic holiday buying seen last quarter, which helped AT&T post its best quarter ever in terms of smartphone sales, we expect to see a seasonal slowdown in smartphone sales. This will in turn result in modest postpaid subscriber gains for the carrier, especially now that an increasingly saturated wireless market has made the acquisition of new subscribers, especially those that pay for the higher-margin data plans, highly tough for the wireless carriers. (CTIA Wireless Facts)) Last year, AT&T added about 3.8 million net subscribers in all, less than half as many as it had managed to add in 2011.

As the wireless industry gets more saturated, the focus has shifted from acquiring new subscribers to converting more of the existing base to smartphones and increasing profitability. Aside from controlling subsidies, AT&T is also trying to lengthen the handset replacement cycle by levying additional upgrade fees. (see AT&T Shows Focus On Profitability As Data Demand Surges) At the same time, new growth areas in non-smartphone connected devices such as M2M, telematics, tablets, e-readers are being explored. One of the major reasons why wireless penetration has exceeded 100% is because of these connected devices, whose market is growing really fast.

This bodes well for AT&T which is currently the market leader in the connected device category. However, these are early days and the equation could change in the coming years with Verizon also getting serious about this segment, as is evidenced by its recent acquisition of Hughes Telematics last quarter. (see Verizon Picks Up Hughes Telematics For Connected Devices Push)

Data Share Plans

AT&T will therefore look to fuel the demand for these connected devices with its recent launch of data share plans that make it easier for users to add more such devices to the carrier’s wireless network. While this might decrease the average revenue per device seeing as these connected data-only devices consume much less data, AT&T’s revenues from each individual subscriber will rise as users connect more devices to its wireless network. Moreover, since their data consumption is low, it will help shore up the service margins for AT&T. We will be looking at the rate at which the company’s Mobile Share data plans are being adopted in the face of heightened competition from Verizon, which has also launched similar plans and is making good progress towards increasing their penetration. (see Verizon’s LTE And Shared Data Plans Lift Results)

It is also likely that sometime in the future, AT&T, which has been a vocal critic of unlimited plans in the past, will follow in Verizon’s footsteps and prohibit its unlimited plan users from availing smartphone subsidies, in case they want to continue using their plans. We believe, this will be a step in the right direction since it will help AT&T more efficiently manage its limited network resources better and monetize every bit of data that is transferred on its pipes. (see AT&T Looks To Fuel Data Demand With Mobile Share Plans)

Margins Should Rebound

Record smartphone sales last quarter had eaten away into AT&T’s wireless operating margins, which fell by almost a half due to the heavy smartphone subsidies. A basic model of the iPhone, which AT&T sold a whopping 8.6 million of last quarter, costs around $650 for the carrier, who then subsidizes it heavily to sell for $199. While checks have shown that the iPhone 5 continues to be the best seller at AT&T, it will be tough for the sales to be as high as last quarter.

The seasonal slowdown in smartphone sales that we expect should help margins rebound in this and the subsequent quarters as well. Also, the higher data ARPUs that the added smartphone customers will generate over the life of their contractual period (two years) should help the margins on their way up. Margins will also be helped by the fact that 4G LTE adoption is on the rise since LTE networks are more efficient at handling data and therefore have lower maintenance costs.

LTE Update

AT&T has therefore been investing a lot in deploying its LTE network, which is showing in its burgeoning capital expenditures. It will therefore be looking to at least partially recover these costs through the increased adoption of its LTE phones. The increased adoption of 4G in the long term will also reduce dependence on AT&T’s 3G networks, which are under great strain due to the heavy data usage of smartphones such as the iPhone. Also, higher LTE speeds will see subscribers increasingly use data-intensive applications on their smartphones. This will drive data revenues, thereby increasing ARPU levels for AT&T over the coming years. In the near term, limited LTE coverage may be a deterrent for many, but a fallback option in the form of the carrier’s HSPA+ network, which provides higher speeds than 3G and has a wider coverage area than its LTE network, should offer an interim solution.

It will therefore be interesting to know the sales figures of its LTE smartphones and the outlook for the year given by the management in this respect. We currently have a $37.30 price estimate for AT&T stock, almost in line with the market price.

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